Why DC plan sponsors should care about decumulation

John T. Por | July 9, 2014

Rivers of ink have been spilled over how to help DC members to save more, invest better and gain more knowledge. We have applied behavioural economics, calculated the effect of high fees on cumulative savings, taken advantage of the latest research on heuristics and employed the best consulting talent—all to ensure that the accumulated savings will prove adequate in achieving DB-like replacement ratios.

But what we’ve kept silent about is what happens to those assets at retirement. This is ironic since, according to Don Ezra’s The Retirement Plan Solution, 60 cents of every retirement dollar is funded by returns earned after retirement—twice as much as the combined impact of all returns before retirement (the remaining 10 cents is the combined employer and employee contributions).

So, clearly, decumulation matters. But when it comes to discussing it, the conversation awkwardly stops. HR and pension professionals—who serve as dedicated, hard-working guides in leading their DC plan members to the summit of the savings mountain—find it discomfiting to be reminded of what happens on the other side.

You may find it shocking that the recordkeeping industry estimates that about 80% to 90% of all Canadian savings slated for retirement outside of DB plans is turned into income at retail prices, without professional portfolio management considerations. Further estimates suggest that the resulting retirement incomes are 20% to 30% less than what they could have been, if institutional fees and proper fiduciary oversight were applied.

So why is there such a void when it comes to decumulation? There are a few reasons. First, employers did not really think through what their hands-off attitude actually meant for members’ income, and prevailing legal advice often urges employers to keep clear of extending what could be considered fiduciary obligations after retirement. Also, our attitudes toward DC plans were formed many years ago, at a time of high expected rates of return and low DC knowledge, so income considerations at potentially low interest rates were not a concern.

The usual rationale for the lack of sponsor involvement is that paternalism is a thing of the past, and competitive pressures are forcing companies to be flexible. This is true as it goes—but then why do we call DC plans “pension plans”? And, as we already provide support on the way up the mountain, why wouldn’t we on the descent—especially when we know it is much harder and far more dangerous?

Why should you, as a plan sponsor, be concerned about decumulation for your DC plan members? Let’s consider a few thought experiments.

If a company found out that the DB pension cheques it sent out were 20% to 30% less due to a flaw in the administrative system, even if it could not be held legally responsible, would it just stand idly by?

Would corporate executives who have spouses, children, friends and relatives in DC plans wash their hands of their relatives’ fate if they were told that, with a bit of adroit tinkering, their retirement incomes could be dramatically improved with almost negligible additional fiduciary risks?

Is it good for productivity if employees in the last 10 years of their careers are worrying about their financial security in retirement?

Do companies really want 67- to 72-year-old workers on their payroll who are only there because they can’t afford to retire?

If retirees really do suffer from the effects of inadequate income (due to insufficient savings, poor spending habits, loss of income due to high fees or inefficient decumulation products, etc.), are corporations better positioned than the government to help them to turn savings into incomes, at a lower societal cost?

Are retirees considered good business assets as consumers, goodwill ambassadors and a talent pool for emergencies and recruitment, rather than a burden to be left behind?

Is the concept of helping employees to convert their hard-won assets at fair prices the “right thing” to do?

Of course, none of this means that DC plan sponsors should rush headfirst into taking on onerous and risky obligations. It only means that the same caring HR executives who designed and put in place effective DC savings programs should present these concerns to their fellow business and financial colleagues to make an informed decision on whether—and how—they wish to constructively deal with these issues on their members’ behalf.

Right now, executives may not understand what they do not want to get involved in, let alone the financial consequences of such aloofness.

Paternalism may be a thing of the past, but evidence shows that caring companies attract a higher-quality workforce. Given that attraction and retention of employees will be a major emerging issue, HR executives have a vital role to play—not only in the lives of their retirees, but also in making their corporation a winner in the coming war for talent.

John Por is founder of the Decumulation Institute. The views expressed are those of the author and not necessarily those of Benefits Canada.

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Seems to me to be a conflict between a moral duty to continue to help retired employees make wise choices regarding the conversion of employer sponsored retirement assets into secure income and the potential fiduciary liability associated with the provision of advice in retirement after termination of the employer-employee relationship.

Since management of employer-sponsored DC retirement assets is only one of the important factors retirees must consider in order to optimize their retirement security, I believe the moral obligation actually extends beyond simply the provision of advice to retirees about the retirement plan option but also includes offering members proper and qualified financial planning advice.

Including wholesale-priced or employer-subsidized access to qualified CFP professionals for active members and retirees could provide both a layer of liability protection for the employer sponsor while also offering the retirees the advice and options required to make the most of their retirement income options.

Without access to employer sponsored financial planning advice, the retired member of a DC plan is forced to look to retail advisors at retirement for their answers and those advisors tend to use retail solutions with higher fees and imbedded commissions to compensate for the costs of providing this advice.

It is my view that those who consult employers in the DC market and their clients would benefit from building a team of qualified CFP advisors to serve the members of group retirement plan and the firms could offer the financial planning services of those team members as part of their overall DC consulting services.

Outside of the retail options, members also face higher than average fees charged by the major insurers for payout product options compared to average IMFs charged to the DC plan assets as an active member.

Normally, as a DC member retires and the plan assets are moved to the carrier’s personal plan, the average account size of retirement members is greater in the beginning of the payout phase than it was on average during the accumulation phase.

Why should a retiring member of a DC plan who choses to remain invested in the same funds with the same carrier face higher IMFs for their LIRA/LIF investments during de-accumulation than they received while in the DC plan with the same service provider? This I believe is a disservice to retired members and also contributes to the very high rate of asset migration out of the group retirement options and into retail products. If the payout options were properly priced based on either the continued pricing offered to active members or based on the account size of the retired member, the assets would not be walking out the door at retirement and the member would be better served.

That almost sounds like a Win/Win for the insurers, the consulting firms and the members.